Scandinavian Working Papers in Economics
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Bank of Finland Research Discussion Papers, Bank of Finland

No 20/2009:
Testing the structural interpretation of the price puzzle with a cost channel model

Efrem Castelnuovo ()

Abstract: We estimate a new-Keynesian DSGE model with the cost channel to assess its ability to replicate the price puzzle ie the inflationary impact of a monetary policy shock typically arising in VAR analysis. In order to correctly identify the monetary policy shock, we distinguish between a standard policy rate shifter and a shock to trend inflation ie the time-varying inflation target set by the Fed. While offering some statistical support to the cost channel, our estimated model clearly implies a negative inflation reaction to a tightening of monetary policy. We offer a discussion of the possible sources of mismatch between the VAR evidence and our own.

Keywords: cost channel; inflation dynamics; price puzzle; trend inflation; (follow links to similar papers)

JEL-Codes: E30; E52; (follow links to similar papers)

34 pages, September 7, 2009

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This paper is forthcoming as:
Castelnuovo, Efrem, 'Testing the structural interpretation of the price puzzle with a cost channel model', Oxford Bulletin of Economics and Statistics.

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